Most of us think of life insurance as a benefit we purchase for the family we leave behind, and of course, that’s mostly true. But life insurance policies that offer a cash value option — typically whole life policies whose premiums partially fund accessible reserves — can also be a source of real-time cash while we’re still around. For seniors on fixed incomes who pay into these types of policies, tapping into these cash reserves can be a viable means to help pay unexpected expenses or to boost cash flow.
If you or your parents are considering accessing life insurance funds, you should first consult with an issuer or broker to get clear on their specific policy parameters. That said, there are three principal ways to access cash from a cash-value policy: you can choose to take out a loan, make a withdrawal, or — most drastically — you can decide to surrender the policy altogether. Here’s some information to help you figure out which option might work best to contribute to your senior finances:
- Loan: Although rules vary, most cash-value policies allow you to take out a loan against accumulated cash value without explanation. Some allow this at any point in the policy’s duration, while others require a longer ownership period. Taking out a loan (versus withdrawal) can allow the policy’s death benefit to remain untouched, provided the loan is repaid. Interest rates are typically lower than they are on other types of borrowing, and interest payments can be added to the cash value. It’s worth noting that any outstanding loan amount decreases the death benefit dollar-for-dollar in the event that the policyholder dies before the loan is repaid.
- Withdrawal: Withdrawing available cash reserves without having to pay them back is an alternative to taking out a loan. The rules on withdrawals vary policy-to-policy; some allow unlimited withdrawals, while others impose limits on how much can be taken out in a given term or calendar year. Because withdrawing funds automatically reduces the death benefit, financial advisors emphasize the importance of weighing short-term versus long-term needs before initiating. For someone who’s built up a healthy cash fund through 25 years of premium payments, for example, withdrawing 15% of that amount to pay for a wedding rather than borrowing that money might make sense, whereas withdrawals for more frivolous items might not be prudent for a person with several dependents likely to rely on the full death benefit. Regardless, anyone hoping to maximize their death benefit should think long and hard before choosing this option.
- A full surrender of your policy – that is, canceling it and cashing in completely – should be considered in very limited circumstances. Here’s why: first, when you cash out you don’t get back the entire amount of money you’ve put in since only a portion of premium payments goes to cash reserves to begin with. There are also cancellation fees and taxes due on your payout. Bottom line: although surrendering your policy might get you quick cash, it should be a last resort option unless you have adequate coverage elsewhere.
There are other options as well that carry certain requirements, including applying for living benefits and selling your policy. Many financial planning websites offer helpful advice on the topic; Investopedia and Nerd Wallet are two of our favorites.
Sometimes tapping into a life insurance policy is needed to help you fund your senior years. If you’re weighing up the costs of your senior years, download our Stay or Go Guide and see whether a vibrant senior living community may be just right for you. It’s packed with useful insights and information that can help you decide which option best suits your needs.